Expected utility theory = assumes that logic prescribes how decisions should be made.
Normative theory = prescribes how people “ought” to make decisions in a perfectly rational
way, and many implicitly assumed that most people, in daily lives, follow normative rules.
Dominance principle = alternative gambles can be ranked from best to worst in terms of
expected value.
Cancellation = a choice between gambles should depend on only those outcomes that
differ.
Transitivity = if you prefer A to B and B to C, then you must prefer A to C.
Invariance = preference should remain invariant or stable, no matter how choices are
described.
Prospect theory = that investors value gains and losses differently, placing more weight on
perceived gains versus perceived losses.
Risk aversion = the tendency of people to prefer outcomes with low uncertainty to those
outcomes with high uncertainty.
Reference point = determines how an outcome is perceived.
Sensitivity = if it is already bad, it doesn’t matter if it gets slightly worse
Loss aversion = the disutility associated with a loss is larger than the utility associated with
a gain with the same magnitude.
Framing effect = a cognitive bias where people decide on whether the options are
presented with losses or gains.
Descriptive decision analysis = how people actually make decisions → prospect theory.
Certainty effect = reduction of probability of an outcome by a constant factor has more
impact when the outcome was initially certain than when it was merely probable.
Pseudocertainty effect = the tendency for people to perceive an outcome as certain while it
is actually uncertain in multi-stage decision making.
Status quo = we want to keep things the way they are and we want to avoid potential losses
generated by chance. Losses loom larger than gains.
Mental accounting = the set of cognitive operations used by individuals and households to
organize, evaluate, and keep track of financial activities.
Opening and closing accounts = decision when to leave accounts “open” and when
“close”.
Perceiving outcomes = how outcomes are perceived and experienced, and how decision is
made and subsequently evaluated.
Transaction utility = the perceived value of the deal = price paid – reference price
Acquisition utility = measure of the value of the good obtained relative to its price = value
(receiving good as gift) – price paid
Disposition effect = the tendency of investors to hold on to losing investments and selling
winners to early.
Payment deprecation = a gradual reduction in relevance of prior expenditures
Payment decoupling = consumption which has been previously paid for can be enjoyed as
if it were free.
Sunk cost effect = arises when a decision is referred to an existing account in which the
current balance is negative.
Budgeting = the assignment of activities to special accounts.
Consumption categories = people divide spending their money into different
categories.
Self-control = people reduce their budgets on purpose to avoid temptations
Income accounting = people tend to match the money they get from a windfall with
the use of which it is put.
+ gift giving, gift cards & wealth accounts
, Choice bracketing = concerns the frequency with which accounts are evaluated. How
choices are grouped together.
House money effect = after a prior gain, people become more open to assuming risk.
Narrow framing = considers each problem individually.
Myopic loss aversion = tendency to focus on avoiding short-term losses, even at the
expense of long-term gains.
Diversification heuristic = when making several choices at once, people diversify.
Hedonic editing = people integrate or segregate multiple outcomes so as to achieve the
highest perceived value.
Minimal account = examining only differences between two options, disregarding all other
features.
Topical account = relates consequences of possible choices to reference level determined
by context within which decision arises.
Comprehensive account = incorporates all other factors including current wealth, future
earnings, possible outcomes of other probabilistic holdings, etc.
System 1 = automatic, involuntary, fast
System 2 = rule-governed, voluntary, slow
Stroop effect = the delay in reaction time between congruent and incongruent stimuli.
Müller-lyer illusion = optical illusion with arrows.
Cognitive reflection task = a task designed to measure a person’s tendency to override an
incorrect “gut” response and engage in further reflection to find the correct answer. System 1
is used for the incorrect “gut” response. System 2 for the correct answer.
Confirmation trap = only check the cards to determine whether the rule is broken. Wason
four card problem.
Natural assessments = inferences of competence based on solely facial appearance.
Intuition = if expressed judgments retain hypothesized initial proposal with little modification.
Heuristics = simplifying strategies or rules of thumb when making decisions.
Biases = the heuristics are sometimes misleading and give rise to biases.
Representativeness heuristic = the degree to which a particular studied group is similar to,
or represents, any part of the larger society.
Insensitivity to base rates = a type of fallacy in which people tend to ignore the base
rate in favour of the individuating information.
Insensitivity to prior probability of outcomes = people don’t take probability in
account when making a decision.
Insensitivity to sample size = the tendency to under-expect variation in small
samples.
Misconceptions of change = Inappropriate belief that random and non-random
events balance out.
Insensitivity to predictability = a bias that is present when the prediction of a future
even is often made on representativeness or how the event is described.
The illusion of validity = belief that furtherly acquired information generates
additional relevant data for predictions, even when it evidently does not.
Misconceptions of regression = individuals in the extremes of any given distribution
are likely to be in that area at least partly due to random error and random variance.
Law of small numbers = the incorrect belief that small samples are likely to be highly
representative of the populations they are drawn.
Conjunction fallacy = a fallacy in decision making where people judge that a
conjunction of two possible events is more likely than one or both of the conjuncts.
Availability heuristic = estimating the likelihood of events based on their availability of its
instances, a class whose instances are more easily retrieved will appear more numerous
Normative theory = prescribes how people “ought” to make decisions in a perfectly rational
way, and many implicitly assumed that most people, in daily lives, follow normative rules.
Dominance principle = alternative gambles can be ranked from best to worst in terms of
expected value.
Cancellation = a choice between gambles should depend on only those outcomes that
differ.
Transitivity = if you prefer A to B and B to C, then you must prefer A to C.
Invariance = preference should remain invariant or stable, no matter how choices are
described.
Prospect theory = that investors value gains and losses differently, placing more weight on
perceived gains versus perceived losses.
Risk aversion = the tendency of people to prefer outcomes with low uncertainty to those
outcomes with high uncertainty.
Reference point = determines how an outcome is perceived.
Sensitivity = if it is already bad, it doesn’t matter if it gets slightly worse
Loss aversion = the disutility associated with a loss is larger than the utility associated with
a gain with the same magnitude.
Framing effect = a cognitive bias where people decide on whether the options are
presented with losses or gains.
Descriptive decision analysis = how people actually make decisions → prospect theory.
Certainty effect = reduction of probability of an outcome by a constant factor has more
impact when the outcome was initially certain than when it was merely probable.
Pseudocertainty effect = the tendency for people to perceive an outcome as certain while it
is actually uncertain in multi-stage decision making.
Status quo = we want to keep things the way they are and we want to avoid potential losses
generated by chance. Losses loom larger than gains.
Mental accounting = the set of cognitive operations used by individuals and households to
organize, evaluate, and keep track of financial activities.
Opening and closing accounts = decision when to leave accounts “open” and when
“close”.
Perceiving outcomes = how outcomes are perceived and experienced, and how decision is
made and subsequently evaluated.
Transaction utility = the perceived value of the deal = price paid – reference price
Acquisition utility = measure of the value of the good obtained relative to its price = value
(receiving good as gift) – price paid
Disposition effect = the tendency of investors to hold on to losing investments and selling
winners to early.
Payment deprecation = a gradual reduction in relevance of prior expenditures
Payment decoupling = consumption which has been previously paid for can be enjoyed as
if it were free.
Sunk cost effect = arises when a decision is referred to an existing account in which the
current balance is negative.
Budgeting = the assignment of activities to special accounts.
Consumption categories = people divide spending their money into different
categories.
Self-control = people reduce their budgets on purpose to avoid temptations
Income accounting = people tend to match the money they get from a windfall with
the use of which it is put.
+ gift giving, gift cards & wealth accounts
, Choice bracketing = concerns the frequency with which accounts are evaluated. How
choices are grouped together.
House money effect = after a prior gain, people become more open to assuming risk.
Narrow framing = considers each problem individually.
Myopic loss aversion = tendency to focus on avoiding short-term losses, even at the
expense of long-term gains.
Diversification heuristic = when making several choices at once, people diversify.
Hedonic editing = people integrate or segregate multiple outcomes so as to achieve the
highest perceived value.
Minimal account = examining only differences between two options, disregarding all other
features.
Topical account = relates consequences of possible choices to reference level determined
by context within which decision arises.
Comprehensive account = incorporates all other factors including current wealth, future
earnings, possible outcomes of other probabilistic holdings, etc.
System 1 = automatic, involuntary, fast
System 2 = rule-governed, voluntary, slow
Stroop effect = the delay in reaction time between congruent and incongruent stimuli.
Müller-lyer illusion = optical illusion with arrows.
Cognitive reflection task = a task designed to measure a person’s tendency to override an
incorrect “gut” response and engage in further reflection to find the correct answer. System 1
is used for the incorrect “gut” response. System 2 for the correct answer.
Confirmation trap = only check the cards to determine whether the rule is broken. Wason
four card problem.
Natural assessments = inferences of competence based on solely facial appearance.
Intuition = if expressed judgments retain hypothesized initial proposal with little modification.
Heuristics = simplifying strategies or rules of thumb when making decisions.
Biases = the heuristics are sometimes misleading and give rise to biases.
Representativeness heuristic = the degree to which a particular studied group is similar to,
or represents, any part of the larger society.
Insensitivity to base rates = a type of fallacy in which people tend to ignore the base
rate in favour of the individuating information.
Insensitivity to prior probability of outcomes = people don’t take probability in
account when making a decision.
Insensitivity to sample size = the tendency to under-expect variation in small
samples.
Misconceptions of change = Inappropriate belief that random and non-random
events balance out.
Insensitivity to predictability = a bias that is present when the prediction of a future
even is often made on representativeness or how the event is described.
The illusion of validity = belief that furtherly acquired information generates
additional relevant data for predictions, even when it evidently does not.
Misconceptions of regression = individuals in the extremes of any given distribution
are likely to be in that area at least partly due to random error and random variance.
Law of small numbers = the incorrect belief that small samples are likely to be highly
representative of the populations they are drawn.
Conjunction fallacy = a fallacy in decision making where people judge that a
conjunction of two possible events is more likely than one or both of the conjuncts.
Availability heuristic = estimating the likelihood of events based on their availability of its
instances, a class whose instances are more easily retrieved will appear more numerous
